The Equity Question

    Much has been written about how ARM's and the decline in value of property has caused the foreclosure mess we are in.  There is one aspect of the loosened lending standards which had gradually made its appearance that, I believe, has a much stronger impact on the current market than any other.  This one factor will be what causes more of a long term mess in the mortgage crisis than anything else.

    This problem is the low down payments that many people have used to secure their properties.  These low down payment loans will have far reaching consequences in the mortgage mess that is happening now.  

    There has been a recent rise in the mentality of borrowers to walk away from the property they own.  This mentality has come from the feeling that they have lost equity in the property.  Has equity been lost?  For someone who only has 3% or less of their own money tied up in a property, it sure has.  

    A drop of 10% in market price of a property for someone who has only 3% or less of their own money tied up in that property is a sure fire candidate for thinking there is no reason for keeping the house.  They are upside down on the mortgage and feel that they shouldn't have to pay for something that isn't worth the price.  This mentality has even been addressed on an earning call by Wachovia CEO Ken Thompson.  He described said “[These are] people that have otherwise had the capacity to pay, but have basically just decided not to, because they feel like they've lost equity, value in their properties.”

    On a side note, this is one key reason that with all things in life I always look at the total price I am going to pay to see if it is worthwhile.  I still remember flustering a salesman when shopping for a car a few years ago.  He kept asking me what I could afford a month.  I kept answering the same way.  It doesn't matter what I can afford a month.  I want to talk about the total price of the car.  After a few minutes of going back and forth like this he excused himself and got the floor manager to talk to me.  I can only imagine he was relatively new to not be able to work through the total price of a car.  OK, back to real estate.

    What is the effect of this on the future of mortgages in the United States?  We see now a tightening of lending standards.  Sub-prime mortgages are hard to get.  This has spilled slightly into the prime mortgage arena. In the future we will see a stricter guideline on no lending for 3% or less down mortgages for the prime borrowers.  We will see it virtually disappear for those in the subprime market.

    What does this mean for the buy and hold investor?  The same thing that I have been talking about for quite a while.  It's a good time to be an investor if you have your money lined up.  Less people buying houses and more people walking away from their homes provides a nice pool of tenants to choose from

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